Limiting angel investors’ upside

I am speaking from personal experience here, so please read this note with that caveat.

Over the past 3–4 months, I’ve encountered a disappointing trend among a few tech entrepreneurs (in India) towards their early stage angel investors.

The argument goes,

hey, i need to clean up my cap table as I want to raise a lot of money, and I need to reduce founder dilution …it’s something my current big VC investors are pushing me to do. Please can you take an exit at a multiple of your invested capital?”

In most cases, this should be cause for celebration. How often do angels get exits in early stage tech deals in India after all.

But recently, I’ve found myself with the short end of the stick. Founders approach us saying, “please take an exit since you’ve already made X-times the invested capital and that should give you a healthy return”. Another version is, “you’ve invested in that other company that vaguely competes with us, and so we are worried about information rights you have and you may leak our secrets to them.”

In each case, the offer on the table is a “market rate discount to last round” … without an upfront disclosure about an impending big-up-round on the horizon. Because there is no way for the angel to truly know that a new round may happen, and even when it does, the disclosure will happen much later anyway, why not “clean up the cap-table”.

I see it as nothing short of theft.

When an angel investor invests in your company, it is often at a stage when your company is at the formative stages, and has little to no evidence of achievement. The risk factor of the angel investors investment going to ZERO is pretty high. In other words, unlimited downside risk on the capital invested.

So, on the other side, when you start achieving great success, just as Founders have unlimited upside potential; early investors should have the same opportunity (to the extent of their investment) … unlimited upside potential.

Thought I’d share this for the benefit of fellow angel and early stage investors in the India startup ecosystem. Don’t fall for this trap.

PS: if you want solutions for how to protect against such practices (i.e. safe guard yourself against such malpractice), feel free to email me.

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